As Central Banks Go Digital, Crypto Competition Looms

The race is on to build the best "stablecoin" – a cryptocurrency with mechanisms aimed to reduce price volatility built in.

AccessTimeIconAug 28, 2018 at 8:00 a.m. UTC
Updated Sep 13, 2021 at 8:19 a.m. UTC

Michael J. Casey is the chairman of CoinDesk's advisory board and a senior advisor for blockchain research at MIT's Digital Currency Initiative.

The following article originally appeared in CoinDesk Weekly, a custom-curated newsletter delivered every Sunday exclusively to our subscribers.

With blockchain platforms being tested for various business processes, prospective enterprise users that are unwilling to accept a volatile cryptocurrency will often complain that a key piece is missing from the platform: a stable, digital medium of exchange.

Hence the race, currently underway, to create a viable "stablecoin."

Many tech teams, such those at Basecoin, are developing decentralized algorithms intended to peg the value of a crypto-asset to an external reference price such as a fiat currency like the dollar. Others, such as Saga, are building collateralized reserve models, offering guaranteed, fixed-price convertibility into an alternative store of value – also, such as the dollar. Based on the controversy surrounding Tether, the biggest stablecoin, it's fair to say that a widely trusted system does not yet exist.

Here's an alternative vision: What if the race is won by a central bank? Digitizing fiat is arguably easier than pegging to fiat. What it needs is buy-in from officialdom.

The Bank of Thailand moved the world a small step closer to that solution last week. It announced that, in partnership with eight financial institutions, it is developing a digital currency based on R3's Corda distributed ledger protocol.

We'll see how the Thai project evolves, but the purpose for now appears quite narrowly focused on a specific use case: facilitating interbank transfers among institutions operating within the country's capital markets. Although limited to Thailand, it would add in the monetary piece that's been missing from other distributed ledger initiatives to streamline securities settlement, such as that at the U.S. settlement and clearing agency, the DTCC.

However, it's not hard to imagine that if Thailand's or another country's "wholesale" central-bank digital currency experiment shows signs of success there will be pressure to expand these so-called CBDC models to a wider community of users.

Expanding access to CBDC

With blockchain-based solutions for supply chains now moving from proofs of concept to implementation, with a lot of that activity in Thailand's neighborhood, businesses could start to seek digital fiat solutions to these new models of automated trade. This will, of course, be limited to in-country transactions, but if prospective decentralized, smart contract tools such as atomic swaps , currently being explored for blockchain assets, can also be applied to digital fiat currencies, instantaneous cross-border CBDC exchanges might become a reality.

And despite concerns about financial instability expressed by the Bank of International Settlements, a central bank-owned body that coordinates activity among its members, I think it's fair to assume a fully retail CBDC will one day exist somewhere.

The BIS' concerns primarily lie with the potential threat to the banking system from money fleeing short-term deposits into CBDC wallets. But that position presupposes banks should continue to play a central role in our payments systems. Many central bankers, who were blindsided by the problems caused by too-big-to-fail banks during the financial crisis, take a different view: that our dependence on for-profit private institutions to manage our monetary system is the very cause of the systemic risks to which our society has long been subject.

No lesser figure than former Bank of England Governor Mervyn King has argued forcefully about the need to reform the bank-centric financial system. And although his successor, Mark Carney, has soured on the idea of a digital pound, it's noteworthy that BOE researchers, among the first to explore CBDC ideas, initially explored the potential benefits of removing banks from payments by ending their privileged access to central bank reserves.

A world of competing currencies

If this future does come to pass, it will be a long way from that envisaged by crypto developers who want to remove central banks from the equation. It's even further from the vision of bitcoin enthusiasts, who see the need for a fully censorship-resistant currency with a monetary policy that cannot be altered by policymakers.

But all will not be lost for monetary innovators. The act of digitizing currencies – whether by central banks or by crypto developers – is likely to lead to increased global competition across currencies, as access and the cost of trading them becomes more efficient. That will put central banks themselves under pressure to develop currencies that people want to use.

The competition won't only be among different countries' currencies. With the help of Lightning and/or other Layer 2 solutions, cryptocurrencies will become more scalable and can present themselves as one of a number of options.

I see the scenario eventually evolving into something like the vision of Austrian economist Friedrich Hayek, a favorite of libertarians, who foresaw a world of competing private currencies emerging. It's just that this one would entail competition between crypto- and government-run digital currencies.

Hopefully out of that competitive soup something that best serves humanity will arise.

Of course, this isn't happening tomorrow. It's premature to place all-out bets on any kind of currency solution becoming the standard.

But to assume that the world of money won't change at all is also foolhardy. These forces will come to bear in ways that will be difficult for any actors, public or private, to control.

Protecting people's interests

When that change starts to happen, it's critical that we, the people, provide input into how these systems evolve. A world of competing digital currencies isn't necessarily a utopia.

As I argued in a previous column, crypto tokens have in some cases worsened society's problems with truth in social media, prompting tribes of specific token holders to fiercely defend their coin against valid criticism. Imagine the same thing happening with fiat digital currencies promoted as investments by dictatorships.

We might just be getting a test of that with Venezuela's move to peg the bolivar to its new digital currency, the Petro. The government of President Nicolas Maduro has long employed an aggressive propaganda campaign in favor its tragically failed policies. Imagine if he gets a team of Petro-holding trolls to amp up that campaign.

Digital fiat currency could also become an alarming surveillance tool. Already, the concept of China's "social score" system is raising concerns in that country. Add traceable digital payments to that kind of model and something even more invasive emerges.

Still, competitive pressures might also help us here. As I've previously argued, privacy is vital to good, functioning, fungible currency systems. So too, naturally, is broad adoption.

If we can create a world of genuine choices across currencies, it's reasonable to assume that people will gravitate toward those that don't entail surveillance and aren't used as propaganda tools.

Will cryptocurrencies do a better job of achieving these standards? Possibly. But it depends on their design. There are plenty of bad altcoins out there.

Still, if a cryptocurrency, whether bitcoin or an alternative with a different monetary policy, attains scalability and includes robust privacy protections, there's still a very decent chance it could eventually outcompete government currencies.

Either way, let's bring on the competition. May the best coin win.

Chess image via Shutterstock


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